Fastenal Company — Q1 2019 Form 10-Q Summary
Business Context and Reporting Period
Fastenal is a North American wholesale distributor of industrial and construction supplies, serving primarily manufacturing and non-residential construction customers through more than 3,100 in-market locations. This unaudited report covers the three months ended March 31, 2019, compared with the three months ended March 31, 2018.
Key Financial Metrics
| Metric | Q1 2019 | Q1 2018 | Change |
|---|---|---|---|
| Net sales | $1,309.3 million | $1,185.8 million | 10.4% increase |
| Gross profit | $624.7 million | $577.6 million | 8.2% increase |
| Gross margin | 47.7% | 48.7% | Down 100 basis points |
| Operating income | $261.4 million | $234.5 million | 11.5% increase |
| Operating margin | 20.0% | 19.8% | Up 20 basis points |
| Net earnings | $194.1 million | $174.3 million | 11.4% increase |
| Diluted earnings per share | $0.68 | $0.61 | 11.5% increase |
| Operating cash flow | $204.9 million | $159.7 million | 28.3% increase |
Cash and cash equivalents were $185.4 million at March 31, 2019, compared with $167.2 million at December 31, 2018. Total debt was $489.0 million, including $335.0 million drawn on the $700.0 million unsecured revolving credit facility. The company reported compliance with its debt covenants. Total operating lease liabilities were $222.2 million following adoption of the new lease accounting standard.
Net cash used in investing activities was $52.7 million, including $54.4 million of property and equipment purchases. Net cash used in financing activities was $134.9 million, including $123.0 million of dividends and $30.0 million of net debt repayments. The company paid a quarterly dividend of $0.43 per share and declared the same amount for payment in May 2019.
Material Changes Versus the Prior Comparable Period
- Sales growth was driven by higher unit volumes, continued industrial demand, growth initiatives, and pricing actions related partly to inflation and tariffs. Daily sales increased 12.2%, aided by one fewer business day in Q1 2019.
- Gross margin declined because of product and customer mix, product costs rising faster than pricing, higher transportation costs, and lower net rebates.
- Operating and administrative expenses improved to 27.8% of sales from 28.9%, reflecting relatively slower growth in employee-related and occupancy-related expenses.
- Operating cash flow improved as earnings increased and working-capital investment was less burdensome than in the prior-year quarter. Receivables and inventories nevertheless increased 15.2% and 14.0%, respectively, year over year.
- Capital expenditures increased to $52.8 million on a net basis, up 83.3%, primarily due to investments in manufacturing, warehouse automation, and industrial vending.
- Fastenal signed 59 national account contracts, activated 105 new Onsite locations, and signed 5,603 industrial vending devices. Installed vending devices reached 83,410, while active Onsite locations reached 945.
- The company opened three branches and closed 42 branches during the quarter, while activating 66 Onsite locations and closing 15.
Guidance, Outlook, Commentary, Risks, and Unusual Items
- Management maintained a 2019 net capital expenditure outlook of $195.0 million to $225.0 million.
- Management maintained 2019 goals of 23,000 to 25,000 industrial vending device signings and 375 to 400 Onsite signings.
- Management expects an ongoing tax rate, absent discrete items, of approximately 24.5% to 25.0%.
- Management cited favorable underlying manufacturing and industrial demand but noted broader softness in oil and gas and adverse weather that reduced estimated Q1 sales by approximately 65 to 85 basis points.
- Tariffs, steel and other product-cost inflation, freight costs, foreign exchange, interest rates, economic downturns, competitive pricing, customer and product mix, inventory management, and adoption of vending and Onsite models are significant risks.
- A one-percentage-point increase in LIBOR would have increased Q1 2019 interest expense by approximately $0.9 million. The company does not use interest-rate swaps for its variable-rate credit facility.
- Effective January 1, 2019, Fastenal adopted ASC 842 for leases, recording operating lease right-of-use assets of $227.5 million and lease liabilities of $228.3 million. The adoption had an immaterial effect on reported earnings and cash flow.
- The company recorded $19.0 million of industrial revenue bonds associated with its Kansas City facility and purchased the bonds at par; the transaction was treated as non-cash because of the right of offset.
- Management reported no litigation matters considered probable or reasonably possible to have a material adverse outcome, and no material change in previously disclosed risk factors.
Investor Verification Priorities
- Verify whether margin pressure from product mix, pricing lag, freight costs, tariffs, and rebates persists in subsequent quarters.
- Track receivables and inventory growth relative to sales, including the effect of national accounts and international operations on collections.
- Assess whether the planned $195.0 million to $225.0 million of 2019 capital spending produces the expected vending, Onsite, hub-capacity, and sales growth.
- Monitor floating-rate debt exposure, LIBOR replacement risk, debt maturities, and covenant compliance.
- Evaluate the sustainability of the vending and Onsite expansion goals and the financial impact of branch closures and location conversions.
- Confirm the effects of tariffs, steel costs, transportation inflation, weather, oil and gas weakness, and foreign currency movements on future sales and profitability.